abrdn Private Equity Opportunities Trust — Wider discount to NAV amid macro risks

abrdn Private Equity Opportunities Trust (LSE: APEO)

Currency in GBP

Last close As at 04/02/2023

GBP4.60

−19.00 (−3.97%)

Market capitalisation

GBP707m

Research: Investment Companies

abrdn Private Equity Opportunities Trust — Wider discount to NAV amid macro risks

Abrdn Private Equity Opportunities Trust (APEO) posted a 6.8% NAV total return (TR) in H122 (ending March 2022), which was a function of a robust return in late 2021 (in calendar Q421 at 5.2%, driven by profitable exits). The NAV TR between end-December 2021 and end-June 2022 stands at 2.4%, but its latest NAV is still largely based on end-March 2022 valuations and does not capture the subsequent sell-off in public equities. APEO’s manager acknowledges that macro headwinds are likely to exert pressure on corporate earnings and portfolio valuations in H222. We note that this has already been reflected in its share price as APEO’s discount to NAV widened to c 39% (versus 20% in our February 2022 note).

Milosz Papst

Written by

Milosz Papst

Director, Financials

Investment Companies

Abrdn Private Equity Opportunities Trust

Wider discount to NAV amid macro risks

Investment trusts
Private equity

8 August 2022

Price

442p

Market cap

£679.6m

NAV*

£1,118.1m

NAV*

727.3p

Discount to NAV

39.2%

*At end-June 2022

Yield

3.2%

Shares in issue

153.7m

Code/ISIN

APEO/GB0030474687

Primary exchange

LSE

AIC sector

Private Equity

52-week high/low

582p

397p

715p

559p

Gearing

Net gearing at 30 June 2022

2.2%

Fund objective

Abrdn Private Equity Opportunities Trust’s (formerly Standard Life Private Equity Trust) investment objective is to achieve long-term total returns through holding a diversified portfolio of private equity (PE) funds and direct investments into private companies alongside PE managers (co-investments), a majority of which will have a European focus.

Bull points

Focus on top-performing European PE managers.

Experienced investment team with strong PE manager relationships.

Consistent DPS growth in recent years.

Bear points

APEO’s NAV is yet to fully reflect the de-rating in public equities.

Lower coverage ratio versus its close peers.

Changes to sector exposure take more time within APEO’s core fund-of-fund strategy.

Analysts

Milosz Papst

+44 (0)20 3681 2519

Michal Mordel

+44 (0)20 3077 5700

Abrdn Private Equity Opportunities Trust is a research client of Edison Investment Research Limited

Abrdn Private Equity Opportunities Trust (APEO) posted a 6.8% NAV total return (TR) in H122 (ending March 2022), which was a function of a robust return in late 2021 (in calendar Q421 at 5.2%, driven by profitable exits). The NAV TR between end-December 2021 and end-June 2022 stands at 2.4%, but its latest NAV is still largely based on end-March 2022 valuations and does not capture the subsequent sell-off in public equities. APEO’s manager acknowledges that macro headwinds are likely to exert pressure on corporate earnings and portfolio valuations in H222. We note that this has already been reflected in its share price as APEO’s discount to NAV widened to c 39% (versus 20% in our February 2022 note).

APEO’s share price discount to NAV over last three years

Source: Refinitiv

Why consider APEO now?

APEO continues to pursue a concentrated, high conviction strategy of partnering with top-tier European general partners (GPs), with a strong emphasis on sector expertise, which is likely to be one of its key long-term advantages in the increasingly competitive private equity (PE) space. APEO’s investment manager highlights that the trust’s portfolio is skewed towards businesses with lower cyclicality, such as IT (mostly profitable B2B businesses), healthcare (with little exposure to higher-risk biotech) and consumer staples, making up 53% of the portfolio in total. We also note that some incremental investor buying could still come from APEO’s inclusion in the FTSE 250 Index in March 2022.

The analyst’s view

We note that APEO invests primarily in PE mid-market funds with a typical size of €1.0–5.0bn AUM (and has lately put more emphasis on lower mid-market funds of €150m to €1.0bn), which in recent years have accumulated less capital than PE ‘megafunds’. Therefore, mid-market funds are likely to see a less demanding competition for acquisition targets. At the same time, mid-market funds tend to be less dependent on IPOs as an exit route, which may help sustain a good level of distributions to APEO despite the market headwinds. APEO’s commitment coverage ratio has decreased recently to 26% (from a 43% monthly average over the last two years), but we view this as a safe level (see below). APEO’s board is also confident that the company can continue its dividend policy, with 3.6p to be paid in October 2022 and January 2023, implying an annualised yield of 3.3%.

Performance: Portfolio value driven by exits

Solid NAV TR in H122 at 6.8%

APEO’s NAV TR in the first half of FY22 (ending March 2022) was driven by exits, which accounted for 87% of the private portfolio revaluation of 8.7%. The exits were realised at a robust 16% average uplift (to the valuation two quarters prior) and a 2.2x multiple on invested capital. APEO highlighted that the main exit route was by trade sale to a strategic investor, as well as by sale to financial buyers (ie transactions between financial institutions, including PE sponsor-to-sponsor deals) rather than IPOs. The five largest transactions, which were responsible for roughly half of the total distributions received by APEO (excluding secondary sales) were from the software (Vizrt, Autoform), healthcare (General Life, Atos Medical) and financial (Sbanken) sectors.

TR realised predominantly in late 2021

The above performance was attributable primarily to Q122 (to end-December 2021) when APEO’s NAV TR was 5.2% (valuations were marked up to end-2021). The Q222 total NAV return (91% of private valuations as at end-March 2022) stood at only 1.5%, which is still above the UK All-share (up 0.5%) and MSCI Europe (down 4.6% in sterling terms) indices. APEO’s unrealised private investments were revalued upwards on the back of strong operating results, as revenues and EBITDA increased across the portfolio by 17.8% and 25.7% on average respectively (over the 12 months to end-March 2022). Meanwhile, the listed stocks within APEO’s portfolio (the result of former IPOs) posted a 22% aggregate decline in H122 and consequently made up 8.5% of the portfolio at end-March 2022.

Portfolio valuations do not capture the latest downturn

APEO’s latest NAV estimate as at end-June 2022 implies a 2.4% NAV TR in the first six months of 2022 and we understand the estimate still largely reflects end-March 2022 private valuations. Hence, it does not account for most of the sell-off in public equities this year, with the MSCI World and MSCI Europe indices down by 2% and 5% respectively (in sterling terms) between end-2021 and end-March 2022 compared to their H122 declines of 11% (although we note that equity markets have rebounded somewhat since end-June 2022). As a result, APEO’s investment manager expects the macro headwinds (elevated inflation, high interest rates and economic slowdown) to have an impact on corporate earnings (including some margin compression) and valuations across its portfolio in the second half of the year. This helps explain the current wide discount to NAV (c 39% versus a 10-year average of 21%), as investors likely price in some downward pressure on the valuations of APEO’s private holdings. Widening discounts to NAV have materialised across the listed PE space lately, with the average discount for APEO’s peers currently at c 37% versus 26% in our most recent note in February 2022 (Exhibit 3). This has also been a function of a varying degree of valuation lag.

Exhibit 1: APEO’s performance to 30 June 2022

Price, NAV and benchmark total return performance, one-year rebased

Price, NAV and benchmark total return performance (%)

Source: Refinitiv, Edison Investment Research. Note: Three, five and 10-year performance figures annualised.

Exhibit 2: Five-year discrete performance data

12 months ending

Share price
(%)

NAV
(%)

LPX Europe NAV (%)

UK All-share (%)

MSCI Europe (%)

30/06/18

1.4

8.2

11.8

9.0

4.2

30/06/19

7.9

14.0

7.8

0.6

6.4

30/06/20

(11.9)

2.3

2.6

(13.0)

(3.5)

30/06/21

69.0

34.9

15.9

21.5

21.5

30/06/22

3.1

30.4

25.3

1.6

(5.6)

Source: Refinitiv. Note: All % on a total return basis in pounds sterling.

Over the long term, APEO has delivered an NAV TR broadly in line with its listed peers, with a 10-year average annual return (to end-June 2022) of 14.9% versus the peer average of 15.5% (see Exhibit 3). Meanwhile, the whole sector outperformed public equities, as the MSCI Europe and UK All-share indices delivered annualised returns of 8.7% and 6.9% respectively. APEO’s dividend yield is the second highest in the peer group and dividends are distributed quarterly; the most recent payment (ex-dividend date of 23 June) of 3.6p per share implied a 3.3% annualised dividend yield. Importantly, APEO managed to continue its dividend distributions with no changes to the amount and frequency during the COVID-19 disruptions. The board is confident that further dividends of 3.6p will be paid in October 2022 and January 2023.

Exhibit 3: Selected peer group at 14 July 2022*

% unless stated

Market cap £m

NAV TR
1 year

NAV TR
3 year

NAV TR
5 year

NAV TR
10 year

Ongoing charge**

Discount
(cum-fair)

Perf.
fee**

Net
gearing

Dividend
yield

abrdn Private Equity Opportunities

679.6

31.1

79.8

123.3

302.3

1.1

(39.2)

No

100

3.2

CT Private Equity Trust

319.1

36.8

85.9

119.8

280.5

1.2

(31.3)

Yes

100

5.0

HarbourVest Global Private Equity

1,968.6

35.8

102.3

168.1

448.7

1.0

(38.1)

Yes

100

0.0

ICG Enterprise Trust

748.2

27.7

74.0

122.3

273.1

1.4

(38.0)

Yes

100

2.5

Pantheon International

1,502.7

31.4

68.1

112.1

287.7

1.2

(39.5)

Yes

100

0.0

Simple average

1,134.6

32.9

82.6

130.6

322.5

1.2

(36.7)

-

100

1.9

APEO rank in peer group

4

4

3

2

2

4

4

-

1

2

Source: Refinitiv, Edison Investment Research. Note: Net gearing is total assets less cash and equivalents as a percentage of net assets. *12-month performance to latest available NAV: end-June 2022 for abrdn Private Equity Opportunities, HarbourVest Global Private Equity and Pantheon International; end-April for ICG Enterprise Trust; and end-March for CT Private Equity Trust. **At company level, not including underlying funds’ costs and fees.

Asset allocation: European mid-market focus

APEO’s long-term return profile is underpinned by its emphasis on funds managed by high-conviction GPs focused on European companies (78% of the portfolio) and mid-market opportunities (funds of €1.0–5.0bn in size). Recently, APEO has gradually increased its exposure to lower mid-market funds (€150m to €1.0bn in size). We believe that these PE market segments have accumulated proportionately less dry powder in recent years (according to PitchBook data, 41.2% of capital raised in 2021 was from four megafunds), hence these funds may face less pronounced competitive pressure, while at the same time being less dependent on an IPO as an exit route, as they can more easily sell their holdings to a strategic buyer or other financial investor. This could support distributions to APEO despite the worsening macroeconomic environment.

Moreover, APEO has expanded its direct co-investments portfolio to 17% of the portfolio at end-March 2022 (up from 11% at end-September 2021). The continuous flow of co-investment opportunities encouraged APEO’s investment manager to amend its investment policy in H122 to allow an allocation of up to 25% of the portfolio (from the previous 20%). These investments give APEO greater flexibility in terms of the timing of new investments and sector allocation versus primary fund commitments, while still allowing the company to benefit from the expertise of top-performing lead sponsors.

With new capital having flowed into PE in recent years, and some recent repositioning in private investor portfolios, APEO’s investment manager expects that institutional investors will look to re-balance their asset allocations and portfolio weightings over the coming quarters, which in turn is likely to fuel activity in the secondary market. The manager believes that APEO is well placed to take advantage of such opportunities – either to sell some of its positions (to boost liquidity), or to acquire assets at attractive valuations.

APEO favours less-cyclical exposures

More than half of APEO’s portfolio (53%) is allocated to sectors the manager believes are characterised by less cyclical revenue streams (technology, healthcare and consumer staples). APEO’s healthcare exposure mainly consists of medical technology, healthcare services (eg orthopaedics, laboratory diagnostics and elderly care), contract research organisations and more traditional pharma businesses rather than biotech companies. Furthermore, its information technology (IT) holdings are generally profitable and B2B-focused and it has relatively low exposure to higher growth, unprofitable technology businesses (which saw a particularly strong de-rating lately). APEO has limited exposure to southern economies (Italy and Spain) at 5% of the portfolio, with the highest European exposures to Nordic countries (17%) and the UK (17%). Furthermore, it has no exposure to companies headquartered in Russia, Belarus or Ukraine and revenues from these markets account for less than 1% of aggregate underlying portfolio company revenues.

High share of co-investments in new transactions

In H122, APEO invested £145.5m (up 171% y-o-y) into new and existing portfolio companies, of which £65.8m was allocated to co-investments. The remaining investments were drawdowns of primary fund commitments and one £5.1m secondary investment. The largest fund drawdown (£8.3m) was made by Vitruvian IV to finance the acquisition of Medison Pharma Group – a global pharma company focused on providing access to highly innovative therapies.

Exhibit 4: H122 co-investments

Company

Lead sponsor

Date

Amount

Description

SuanFarma

ArchiMed SaS

Oct-21

£6.3m

Contract development and manufacturing company and distributor of active pharmaceutical and nutraceutical ingredients

SportPursuit

bd-capital Partners

Oct-21

£4.2m

Flash sale e-commerce business that sells clearance stock from sports and outdoor brands

CDL Nuclear Technologies

Excellere Partners

Nov-21

£5.2m

Provider of turnkey cardiac PET / PET-CT imaging technology solutions and radioisotope delivery to independent US cardiology practices and hospitals

NGE

Montefiore Investment

Nov-21

£8.9m

An independent player in the construction and public works sector in France

Tropicana

PAI Partners

Nov-21

£8.6m

A portfolio of beverage brands, including Tropicana and Naked

European Camping Group

PAI Partners

Nov-21

£6.7m

Company in the premium outdoor vacation accommodation market

CFC

Vitruvian Partners

Mar-22

£9.0m

Tech-led insurance platform, a global leader and category innovator in the cyber market

ACT

Bridgepoint

Mar-22

£8.4m

Specialist intermediary in the environmental certification market globally, headquartered in the Netherlands

Uvesco

PAI Partners

Mar-22

£8.3m

Food retail operator in the North of Spain

Source: APEO

Substantial increase in commitments to new funds in H122

In H122 (to end-March 2022), APEO committed £168.6m to eight new primary funds (see Exhibit 5), 162% more than the £64.4m committed in H121, a period that was affected by the global pandemic. As a result, total outstanding commitments increased by £107.5m to £627.1m (offset in part by £145.5m in drawdowns and £33.2m in commitments to funds sold in the period), which includes minor commitments to co-investments. As at end-June 2022, APEO’s commitments increased further to £663.5m.

Exhibit 5: H122 primary fund commitments

Fund

Commitment

Geography focus

Description

Hg Saturn 3

£25.8m

Europe

Buyout fund focused on software and services

Advent Global Private Equity X

£25.2m

Global

A US$25bn multi-sector fund

ArchiMed MP 2

£25.1m

Europe, North America

Healthcare specialist mid-market fund

PAI VIII

£25.1m

Europe

A multi-sector upper mid-market fund

IK Partnership II

£20.8m

Europe

A multi-sector fund focused on co-control and minority opportunities

Capiton VI

£16.9m

Europe

€504m fund focused on pharmaceuticals, medical technology, industrial technology and responsible consumption

Windrose Health Investors Fund VI

£15.1m

US

A mid-market fund focused on the healthcare sector

Great Hill Equity Partners VIII

£14.6m

US

US$4.65bn fund targeting investments of up to $500m in software, digital commerce, financial technology, healthcare, and digital infrastructure sectors

Post balance-sheet date investments

Nordic Capital XI

€30.0m

Northern Europe

Fund focused on medium- to large-sized buyouts in healthcare, technology and financial services sectors

Investindustrial Growth III

€30.0m

Southern Europe

Lower mid-market fund focused on industrials, business services and consumer & leisure sectors

One Peak Growth III

€15.0m

Europe

A growth fund targeting rapidly growing technology and tech-enabled companies

Source: APEO

Coverage ratio below historical average and peers

APEO follows an overcommitment (defined as commitments in excess of liquid resources as a percentage of NAV) strategy to remain fully invested over time given gradual drawdowns from underlying funds (spread over multiple years) and regular distributions. Its overcommitment ratio stood at 43.6% as at end-June 2022 (March 2022: 38.9%), well within the target range of 30–75%.

However, APEO’s commitments coverage ratio (ie liquid resources to outstanding commitments) of 26% at end-June 2022 (March 2022: 32%) is visibly lower than in recent years (see Exhibit 7). This is partly a function of the investment manager’s increased emphasis on optimising returns by maximising the investment level of the company and retaining a minimum required cash position (APEO’s available resources at end-June 2022 included £13.0m in cash and an available credit line of £162.7m). Moreover, APEO’s temporary increase in the coverage ratio in FY20 was due to a combination of a credit facility upsizing and a slowdown in new investments due to the uncertain environment amid the COVID-19 pandemic. Still, it is worth noting that APEO’s current coverage ratio is below the above-mentioned peers (35–90%). We also note the increase in bridge financing at the level of APEO’s underlying funds (ie debt incurred to help finance investments ahead of capital calls) at £91.9m at end-March 2022, compared with just £47.3m at end-September 2021.

Wide safety margin retained for now

In the context of the unfolding market downturn, investors may be wary of a potential liquidity crunch at listed PE companies if drawdowns exceed distributions over the coming months. We believe it is instructive therefore to look at APEO’s net drawdowns following the COVID-19 outbreak in 2020 as a reference point. Liquidity concerns over capital calls increased massively in the initial stage of the pandemic in 2020, which encouraged some of the PE companies to draw down on their credit lines and withhold dividend payments. This has proven to be a very conservative approach from today’s perspective, as the credit lines were repaid and dividends reinstated in the subsequent months. According to our calculations, APEO’s cumulative net drawdowns peaked in September 2020 at €28m, or 5.1% of outstanding commitments at the onset of the outbreak (end-January 2020, see Exhibit 6). We note that APEO’s coverage ratio was somewhat higher then (42% at end-January 2020). We estimate that a similar peak in cumulative net drawdowns in reference to opening commitments would represent 14% of APEO’s liquid resources at end-January 2022, still leaving a wide safety margin.

Exhibit 6: Net cumulative drawdowns and distributions comparison, 2020* vs 2022*

Source: APEO, Edison Investment Research. Note: *the series start at January 2020 and January 2022, respectively

Nevertheless, we note the positive impact from extraordinary fiscal and monetary support during the lockdowns, which allowed for a quick economic and financial markets recovery. In contrast, we are currently in the process of monetary tightening across the globe, coupled with limited headroom for fiscal stimulus. This means that net drawdowns could last longer this time than in 2020. However, some support is likely to come from the significant dry powder accumulated by private capital globally in recent years (US$3.4tn at end-2021 according to Preqin). Hence, if sponsor-to-sponsor deal volume remains relatively high, this may help offset weaker demand from strategic buyers and an unfavourable environment for IPOs (as discussed above, this particularly applies to the PE mid-market).

Drawdowns and distributions are highly correlated because they both relate to PE deal activity, albeit there is often a short time lag between the two. We calculate that even in an unlikely scenario in which distributions cease but drawdowns continue for a prolonged period, the company’s available resources (£175.7m) represent close to a year’s worth of investments. APEO’s drawdowns in FY18–21 represented 32% of opening commitments on average, which would now imply c £212m based on the last reported outstanding commitments. The most severe mismatch between APEO’s drawdowns and distributions occurred as a result of the global financial crisis (GFC) during FY08–10, when drawdowns net of distributions amounted to 40% of APEO’s outstanding commitments at end-September 2007. We consider a repetition of this scenario in the current environment unlikely, given better availability of debt funding to private companies, both from banks (which appear less vulnerable now versus the GFC) and private debt markets; higher share of more flexible, covenant-lite debt arrangements; and the significant amount of dry powder in the PE industry. We would also highlight that the PE secondary market is much more liquid and over five times bigger (in terms of annual deal value, according to Greenhill) versus at the time of the GFC, which gives PE trusts greater scope to sell fund positions in the market to generate cash and release outstanding commitments.

Exhibit 7: Commitment coverage ratio

Exhibit 8: Distributions and drawdowns

Source: APEO, Edison Investment Research

Source: APEO, Edison Investment Research

Exhibit 7: Commitment coverage ratio

Source: APEO, Edison Investment Research

Exhibit 8: Distributions and drawdowns

Source: APEO, Edison Investment Research

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Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

1185 Avenue of the Americas

3rd Floor, New York, NY 10036

United States of America

Sydney +61 (0)2 8249 8342

Level 4, Office 1205

95 Pitt Street, Sydney

NSW 2000, Australia

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